Press Release: IMF Executive Board Approves €1 Billion Arrangement Under Extended Fund Facility for Cyprus

IMF News, May 15, 2013

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Canonical URL: Press Release: IMF Executive Board Approves €1 Billion Arrangement Under Extended Fund Facility for Cyprus

The Executive Board approved a three-year SDR 891 million (about €1 billion, or US$1.33 billion; 563 percent of the country’s quota) arrangement under the Extended Fund Facility (EFF) for Cyprus.
The approval allows for the immediate disbursement of SDR 74.25 million (about €86 million, or US$110.7 million).
The EFF arrangement is part of a combined financing package with the European Stability Mechanism (ESM) amounting to €10 billion.

Stabilize the country’s financial system.
Achieve fiscal sustainability.
Support the recovery of economic activity to preserve the welfare of the population.

Cyprus suffered a confidence crisis linked to weaknesses in the oversized banking sector and large external and internal imbalances.
Authorities took bold steps, including the upfront resolution and restructuring of the two largest and insolvent banks at no fiscal cost, while protecting insured depositors, and implemented ambitious fiscal consolidation measures.
Challenges ahead include restoring credibility in the banking sector and reducing fiscal deficits and debt to sustainable levels.
The program aims to achieve financial sector stability and debt sustainability to restore growth.
Authorities’ commitment to use internal financing resources, together with support from European partners, helps to ensure that the program is fully financed.
Full and timely implementation of the program is critical: “The macroeconomic outlook is subject to high uncertainty and risks to the program are substantial. There is no room for implementation slippages.”

Stabilize the banking sector:
- Complete the bank recapitalization process, including by using public funds for solvent institutions where necessary.
- Take decisive steps to restructure weak banks.
- Gradually relax temporary payment restrictions at a pace consistent with maintaining financial stability while minimizing distortions to economic activity.
- Strengthen supervision and regulation of banks and credit cooperatives.
- Enhance the framework for anti-money laundering.
Achieve sustainable public finances:
- Complement the fiscal consolidation package with structural reforms to strengthen budget processes and revenue administration.
- Better target welfare programs to protect vulnerable groups.
- Additional fiscal measures of close to 5 percent of GDP will be needed in outer years to put debt on a sustained downward path.

Pre-crisis dynamics:
- Sizeable non-resident inflows attracted by the low corporate tax regime led to a rapid increase in the size of the banking sector to over eight times GDP.
- These inflows helped finance large current account deficits and facilitated fast domestic credit growth, fueling a housing boom and an increase in gross household and corporate sector indebtedness to one of the largest levels in the euro area.
- Loose fiscal policies after Cyprus’ entry in the euro zone in 2008 contributed to a rapid rise in fiscal deficits and public debt.
Crisis transmission and effects:
- Tight sovereign-bank links and deep financial links to Greece caused sovereign debt spreads to soar and market access to be lost by mid-2011.
- The economy fell into recession in late 2011, with the housing market correction (which began in 2009) accelerating.
- Negative feedback loops weakened public finances, and public debt climbed to 86 percent of GDP in 2012.

Place the banking system on a sustainable footing to restore financial intermediation and support economic activity.
Build on recent actions dealing with the two largest and troubled banks to complete their recapitalization process.
Develop a strategy to recapitalize and restructure remaining viable banks and the cooperative sector, using public funds as needed.
Support gradual removal of temporary restrictions while preserving financial stability.
Implement measures for private sector debt restructuring, reform financial sector supervision, and strengthen the Anti-Money Laundering (AML) framework.

Aim for a primary fiscal surplus target of 4 percent of GDP by 2018 to achieve a debt level of close to 100 percent of GDP by 2020.
Consolidation path and measures:
- Includes an adjustment of 2¼ percent of GDP during 2013-2015, which has been recently implemented by the Cypriot authorities, in addition to 5 percent of GDP already underway for the same period of time.
- A further effort of 4¾ percent of GDP will be implemented during 2015-18.
Given significant revenue measures already taken, future consolidation is expected to rely largely on reducing spending.
Structural fiscal reforms to support efforts include privatization and reforms to the public wage indexation mechanism.

Output contracted by 2½ percent in 2012, with the decline accelerating toward the end of the year.
Private demand led the decline:
- Investment plunged by 25 percent.
- Consumption fell by around 3 percent.
Activity is expected to contract by 9 and 4 percent, respectively, in 2013 and 14, consistent with other banking-crisis episodes.
A gradual recovery is expected to start in 2015, driven by a normalization of private consumption and a rebound of investment from a low base.
Growth is expected to remain modest as the economy adapts its business model, stabilizing at just under 2 percent by 2020.

IMF arrangement: three-year SDR 891 million (about €1 billion, or US$1.33 billion; 563 percent of the country’s quota).
Immediate disbursement: SDR 74.25 million (about €86 million, or US$110.7 million).
Combined ESM/IMF financing package: €10 billion.
Public debt: 86 percent of GDP in 2012.
Primary fiscal surplus target: 4 percent of GDP by 2018.
Debt target: close to 100 percent of GDP by 2020.
Fiscal adjustments:
- 2¼ percent of GDP during 2013-2015 (recently implemented) plus 5 percent of GDP already underway for the same period.
- Further effort of 4¾ percent of GDP during 2015-18.
Growth and activity:
- Output contracted by 2½ percent in 2012.
- Investment plunged by 25 percent.
- Consumption fell by around 3 percent.
- Activity expected to contract by 9 and 4 percent in 2013 and 14, respectively.
- Growth stabilizing at just under 2 percent by 2020.
IMF membership and quota:
- Cyprus became a member of the IMF on December 21, 1961.
- IMF quota: SDR 158.20 million.

Press Release No. 13/175 — IMF Communications Department, May 15, 2013.